Company Overview: Charter Hall Social Infrastructure REIT (ASX: CQE) is in the business of property management. It has the ownership of established freehold early learning centres. The Charter Hall Education Trust is an ASX listed Real Estate Investment Trust (A-REIT), which is one of the largest Australian property trusts investing in social infrastructure properties in Australia and New Zealand. With over 28 years’ experience in property investment and funds management, CQE is one of Australia’s leading fully integrated property groups. It uses its property expertise to access, deploy, manage, and invest equity across core sectors, namely office, retail, industrial and social infrastructure.
CQE Details
Diversified Portfolio and Attractive Pipeline of Opportunities: Charter Hall Social Infrastructure REIT (ASX: CQE) is in the business of property management. It has the ownership of established freehold early learning centres. As on 13 July 2020, the market capitalization of the company stood at ~$819.32 million. During FY19, the total portfolio value witnessed a YoY increase of 11.7% to $1.1 billion and reported a development pipeline of $190.2 million. The company continued to focus on enhancing its childcare portfolio with a diligent approach to asset acquisitions and disposals, as well as leasing and development, matched with prudent capital management. During the year, operating earnings of the company went up by 5.5% to $44.2 million and reported NTA per unit of $2.96, reflecting an increase of 6.5% since June 2018. In the same time span, statutory profit of the company was $68.7 million. CQE has an improved, stable, and growing income profile portfolio with decent balance sheet metrics, which is likely to offer a solid foundation for potential future earnings and capital growth.
During the year, the company acquired 14 development sites and five existing childcare centres for a total completion value of $118.7 million. These acquisitions will act as a quality addition to the company’s portfolio, with consistent leases with triple-net structure, long-term commitments, fixed annual rent reviews and appropriate security provisions.
The company retains a healthy balance sheet with a gearing of 23.1% and an average debt maturity of 3.9 years. CQE does not have any debt maturing until FY23. During the year, the company increased its interest rate hedging positions to provide an average hedged position of 67% through December 2025. During 1H20, the company offered stable and secure income and capital growth to its investors and reported increased profit. CQE has a decent pipeline of childcare and social infrastructure opportunities and has a diversified funding source.
FY19 Financial Highlights (Source: Company Reports)
Details of Top 10 Shareholders: The following table provides an overview of the top 10 shareholders of Charter Hall Social Infrastructure REIT. Charter Hall Limited is the largest shareholder in the company, with a percentage holding of 9.17%.
Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)
Cost Management and Increasing Returns to Shareholders: During 1H20, gross margin of the company stood at 75.8%, higher than the industry median of 73.8%. In the same time span, net margin of the company was 115% as compared to the industry median of 60.9%. The higher gross and net margin of the company indicates that the company is well managing its costs and is capable of converting its revenue into profits. During the half-year, EBITDA margin of the company stood at 72.5%, higher than the industry median of 63.4%, indicating increased profitability. In the same time span, Return on Equity of the company stood at 5.4% as compared to the industry median of 4.7%. This shows that the company is well managing the capital of its shareholders and is capable of generating profits internally. During 1H20, assets/equity ratio of the company was 1.38x, lower than the industry median of 1.44x and debt/equity witnessed an improvement over the previous year and stood at 0.35x, down from 0.43x in 1H19. This indicates that the business is financed with a significant proportion of investor funding and a small amount of debt, resulting in a financially stable balance sheet.
Key Metrics (Source: Refinitiv, Thomson Reuters)
Higher Operating Earnings and Healthy Balance Sheet: During 1H20, gross assets of the company went up by 7.3% to $1.3 billion, and NTA per unit increased by 3% to $3.05. It is enhancing its income sustainability and resilience by improving the quality of tenants and leases within a diversified portfolio. During the half-year, operating earnings of the company witnessed a YoY increase of 20.3% to $25.5 million, and net property income went up by 8.8% driven by an increase in lease income, non-recoverable outgoings, and valuation fees. This resulted in an increase of 2.4% in EPS to 8.5 cents. CQE reported a healthy balance sheet with an undrawn debt capacity of $179.5 million and a gearing ratio of 24.9%.
1H20 Operational and Financial Highlights (Source: Company Reports)
Sale of 26 New Zealand Properties: The company has recently sold and settled 26 New Zealand childcare properties for consideration of NZ$36.9 million, representing a selling yield of 6.6% and an 8.7% discount to book value for these properties. The sale consists of the smaller New Zealand properties which had a WALE of 5.7 years. Despite the sale, the company owns 20 New Zealand childcare properties with a combined WALE of 7.4 years.
Growth Opportunities: CQE seems well placed to weather the COVID-19 crisis in the medium term given its long WALE portfolio, low exposure to smaller tenants, no near term debt maturities, and the announcement of significant government support for the childcare sector. It expects to settle eight existing centre acquisitions comprising $45.9 million and is likely to complete 14 developments in FY20. The company has a strategy to provide investors with a stable and secure income and capital growth. It is enhancing income sustainability and resilience and is curating its portfolio through acquisitions, developments, and disposals. CQE is targeting ongoing capital growth by focusing on assets with low substitution risk and high tenant retention rates.
Key Risks: The ongoing COVID-19 pandemic has had a significant impact on the Australian and global economy, which has further impacted the world, travel, trade, business, working arrangements and consumption. The impact of some of these factors could cause significant disruption to CQE’s operations and financial performance. Furthermore, CQE's financial position may be impacted if certain of its suppliers are unable to successfully implement business continuity plans in the current environment. The operating and financial performance of CQE is partially influenced by the macroeconomic conditions, and the prolonged decline in general economic conditions could have an impact on the company’s business condition.
Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)
Valuation Methodology: Price to Cash Flow Multiple Based Relative Valuation (Illustrative)
Price to Cash Flow Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months
Stock Recommendation: The company is offering secure long-term cash flows with minimal risk and the potential for capital growth. However, the distribution is largely dependent on the rents received from tenants across its portfolio, and the new restrictions may include the requirement to offer reductions in rent. The company has recently announced the distribution of 3.475 cents per unit for the quarter ending 30 June 2020 resulting in an annual distribution of 16 cents per unit. At CMP of $2.290, annual dividend yield of the company stood at ~7.02%, which looks a bit inflated due to steep price correction. However, the stock still seems to have decent fundamental value in the long-term. CQE has a growing income stream supported by secure lease covenants. As per ASX, the stock of CQE gave a return of 7.04% in the past three months and is inclined towards its 52-weeks’ low level of $1.485. We have valued the stock using the price to cash flow multiple based illustrative relative valuation approach and have arrived at a target price of lower double-digit upside (in percentage terms). Considering the current trading levels, decent returns in the past three months, the resilience of the business midst pandemic, and decent financial performance, we recommend a ‘Buy’ rating on the stock at the current market price of $2.290, up by 0.439% on 13 July 2020.
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CQE Daily Technical Price Chart (Source: Refinitiv, Thomson Reuters)
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